An introduction to the Business Contract Terms (Assignment of Receivables) Regulations 2018

Introduction

The Business Contract Terms (Assignment of Receivables) Regulations 2018 (the Regs) were introduced to invalidate contract clauses which restrict or prohibit the assignment of contracts containing a right to payment (also known as a receivable). This is because receivables are used by businesses as collateral for short-term finance, which provides additional liquidity to meet financial needs. The Regs were a reaction to the prevalence of anti-assignment clauses (AACs), which restricted the ability of small-to-medium-size enterprises (SMEs) to maximise wealth, especially when other avenues of raising finance, such as issuing share capital or bank loans, were unavailable to them. 

The commercial rationale for including AACs in contracts is to protect purchasers from having to deal with third parties, to whom the supplier’s right to payment is transferred. One reason why this is undesirable for the buyer is the uncertainty about the party they are now paying. Another reason, and from a practical perspective, is that the change of address from supplier to third party may increase the delivery costs for the buyer.

The Regs adopt a functional approach to striking down AACs, even if the clause had not been explicitly drafted as one. For example, confidentiality clauses, designed to prevent others from coming into private know-how, may be invalid under the Regs for indirectly imposing a restriction on the assignment of receivables. 

Objectives

In commercial transactions, the supplier is typically considered to be the more dominant party for the purposes of negotiating the contractual terms. These Regs aim to help small suppliers in the situation where there is a large and more powerful customer seeking to contract on their standard terms. However, the City of London Financial Law Committee argued that it would be an unjustified interference with the freedom to contract. Thus, a key objective was to quell commercial anxiety about the extent of the statutory override of AACs. The Regs therefore contained a number of exceptions in other financial services where AACs perform an important role: e.g. preserving mutuality between parties to ISDA derivatives contracts, which is required for close-out netting on certain events of default. The other, more obvious objective is to ameliorate the impact of inequality of bargaining power between a small supplier and large customer, where it exists.

Key provisions

Due to the commercial benefits of using AACs in other areas, Regulation 1(3) confines the override to receivables contracts. Regulation 4 supplements this with a specific list of excluded contracts, which includes financial and banking services such as deposit-taking and derivatives: Regulation 1(1). 

Regulation 3(2), (4) and (5) also provide that an assignor must not be an SPV. This preserves the role of AACs in structured finance such as securitisation, where SPVs are used to hold money raised, and so diversion of funds into other structures is inexcusable without the consent of the financers. 

Regulation 3(3) provides that an assignor must not be a large enterprise, which is defined by certain criteria and accounting measures. This ensures that inequality of bargaining power, where it exists between supplier and buyer, can be levelled out more fairly.

Discussion

While the Regs have been celebrated for making contracts fairer for SMEs, they have been criticised for not clarifying the state of the law. For example, they did not address some key uncertainties in the common law, such as the question of whether intangible property (such as a right to payment) that has been assigned contrary to an AAC is “stripped” of its proprietary nature, as suggested by Lord Browne-Wilkinson in Linden Gardens v Lensta Sludge Disposals [1994] 1 AC 85. Indeed, the impact of this case on SMEs’ capital-raising abilities was a key reason for why the Regs were introduced. The case was also criticised by leading commentators in the field, such as Professor Sir Roy Goode, who argued that AACs should be considered to operate contractually only, such that they cannot prevent the transfer of ownership from an assignor to the assignee upon breach, but give rise to the personal remedy of damages instead.

Further, Regulation 3(3) defining what counts as an SME based on the financial accounts submitted under the Companies Act 2006, as at the time of the assignment, does not consider the possibility that a new business may increase in size over time. It is possible that a new start-up supplier may significantly outgrow its customer, no longer reflecting its SME status as calculated at the time of assignment. This contradicts one of the key objectives of the Regs to “level out” inequality of bargaining power.

 

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